The CEO of a company focused on investment in real estate is unlikely to be a fan of higher interest rates, and Starwood Capital’s Barry Sternlicht has been proving that point for a while now.
So, from October 2022 (via CNBC):
The Federal Reserve’s aggressive rate hike path – an attempt to tamp down the highest inflation in decades – is set to cause damage to the global economy if the central bank keeps going, according to billionaire Barry Sternlicht.
“They are going to cause unbelievable calamities if they keep up their action, and not just here, all over the globe,” said the chairman and CEO of Starwood Capital Group on CNBC’s “Squawk Box” on Tuesday. Instead, the Fed should move slower and look more closely at economic data, he said.
Starwood Capital’s CEO Barry Sternlicht thinks the Fed created the banking crisis by itself, and that its interest rate hikes will hurt the economy.
“Obviously he [Fed Chair Jerome Powell] didn’t need to do what he did,” he told CNBC’s Squawk Box on Thursday about the latest interest rate increase this week, the ninth since 2022.
Sternlicht, whose hedge fund manages over $100 billion, said that Powell’s argument that the economy will not slow down due to the current banking crisis was flawed.
“He [Powell] is using a steamroller to get the price of milk down two cents, to kill a small fly,” Sternlicht said about Fed’s fight against inflation (the fly) while ignoring its impact on banks.
Barry Sternlicht’s Starwood Capital Group is in default on a $212.5 million mortgage backed by an Atlanta office tower, another sign of mounting distress in US commercial real estate.
The mortgage on Tower Place 100, in the Georgia capital’s Buckhead district, matured on July 9 and Starwood failed to refinance or pay off the debt, according to a filing compiled by Computershare.
Bloomberg July 2023 (emphasis added):
[Sternlicht is] eyeing opportunities again, as the sharp increase in interest rates deflates commercial real estate values.
“We’re in a Category 5 hurricane,” Sternlicht said in an interview taped in June for an upcoming episode of Bloomberg Wealth with David Rubenstein. “It’s sort of a blackout hovering over the entire industry until we get some relief or some understanding of what the Fed’s going to do over the longer term.”
The predicament is unlike past real estate downturns, when aggressive risk-taking in the property industry bled into the broader financial system. This time around, according to Sternlicht, commercial real estate is collateral damage in the Federal Reserve’s efforts to calm inflation with rate hikes.
Financing now is more expensive and harder to come by. Landlords with floating-rate loans are facing the prospect of higher debt payments. While office vacancies pile up in the remote-work era, demand for other property types — apartments, warehouses, hotels — remains strong for now. That could change in a recession.
In the meantime, tight credit conditions are complicating developers’ efforts to start projects or refinance existing buildings. In one recent example, Starwood reached out to 33 banks for a loan on a small property and received just two offers, Sternlicht said.
That the commercial real estate sector has been in trouble has been obvious for some time now (not least thanks to the persistence of working from home), but the fundamental problem is not that interest rates are dramatically high (they are not, certainly in real terms), but that they were “too low” before.
In the earlier part of this year, I quoted (twice!) some comments from Thomas Hoenig, a former president of the Kansas City Fed. They date from a few years ago:
An entire economic system. Around a zero rate. Not only in the U.S. but globally. It’s massive. Now, think of the adjustment process to a new equilibrium at a higher rate. Do you think it’s costless? Do you think that no one will suffer? Do you think there won’t be winners and losers? No way. You have taken your economy and your economic system, and you’ve moved it to an artificially low zero rate. You’ve had people making investments on that basis, people not making investments on that basis, people speculating in new activities, people speculating on derivatives around that, and now you’re going to adjust it back? Well, good luck. It isn’t going to be costless.
I went on to say this:
Mispricing money comes with consequences. And the longer that money is mispriced the more uncomfortable those consequences will be. We are now seeing what look to be the early stages of a long, painful period of readjustment.
This is contributing to the tough times now facing commercial real estate (specifically office buildings) a sector that, if things really go south, will be faced with consequences ranging from unknown unknowns, known unknowns, to known knowns. Few of the repercussions will be agreeable, as banks, non-banks, a number of major cities, and who knows who else are likely to discover.
I’ll stick with that.
As I noted, Sternlicht’s comments have been fairly predictable. That also (more or less) might be said of his dismissal of inflation risk (“a small fly”). After all, commercial real estate is traditionally seen as an asset class that does fairly well in inflationary times, but recessions can be trickier, depressing prices, tenants’ ability to pay and so on. These problems will be exacerbated by the return of more realistic interest rates. They are likely to make a nonsense of asset prices paid and business assumptions made during the era of ultra-low rates.
In recent remarks, Sternlicht has raised a different issue.
Starwood Capital Group’s Barry Sternlicht said the Fed will be forced to halt rate hikes as the pace of tightening has made it too costly for the government to pay the interest on its debt pile.
“Rates will come down in the United States because they’ll have to come down,” Sternlicht said on the second day of Saudi Arabia’s Future Investment Initiative. “The biggest victim of the Fed increasing rates is actually the federal government who now has to pay 5% on $33 trillion worth of debt.”
And so here we have one glimpse of the future that the U.S. seems likely to be facing, a future when the cost of supporting its debt load forces Washington to make policy decisions that are—how to put this—sub-optimal, whether in its spending priorities or in other areas of economic policy.
This week, Kevin Hassett argued on Capital Matters that interest rates may yet need to go up:
[T]here is a longer-run story that cannot be ignored. Online calculators that draw on the seminal work of economist John Taylor to estimate the “Taylor Rule” value for the federal funds rate suggest that the Fed would need to lift rates another percent or two if it truly wanted to slay inflation. If the Fed keeps rates too low, then the economy will not slow enough to push inflation down, and growth and inflation will “surprise” on the upside until the Fed gets serious. A sign that exactly this type of force is present in the latest release is the estimate of the inflation rate from the implicit price deflator for GDP. In the second quarter, inflation optimists pointed to the 1.68 percent inflation rate in the GDP release as a sign that the Fed had accomplished its goal of stabilizing inflation. Inflation in the third quarter jumped all the way up to 3.5 percent and may well be accelerating above 4 percent in the current quarter.
But if the fear of what higher rates will mean for the government’s finances leads the Fed to cut rates to less than Hassett believes they should be, and inflation reaccelerates, how long will nominal rates, at least, stay low?